Market Sentiment: Cautiously Risk-Off amid mounting economic uncertainties and policy divergence

Key Theme: Central Bank Policy Divergence driving cross-asset volatility as data dependency heightens

US equity markets retreated Tuesday as investors digested weaker-than-expected employment data and persistent inflation concerns. The S&P 500 declined 0.49% to 6,299, while the Dow Jones fell 0.14% to 44,112. The disappointing July jobs report, showing only 73,000 new positions versus expectations of 105,000, has dramatically shifted Fed rate cut expectations to over 90% probability for September.

Key Drivers:

Outlook: Near-term volatility expected around upcoming CPI data (August 13), with markets highly sensitive to any inflation surprises that could reshape Fed policy expectations.

Asian markets displayed mixed performance with regional divergence becoming more pronounced. The Nikkei 225 gained 0.55% to 40,772, while the Hang Seng climbed 0.68% to 25,562. China's economic data remains concerning, with manufacturing PMI indicators suggesting continued weakness in the world's second-largest economy.

Critical Factors:

Treasury markets rallied strongly as risk-off sentiment intensified following weak economic data. The 10-year Treasury yield fell to 4.22%, approaching three-month lows as investors priced in more aggressive Fed easing. This represents a significant shift from earlier hawkish positioning, with markets now expecting approximately 100 basis points of cuts over the next 12 months.

Treasury Market Dynamics:

Gold: Trading near $3,374 per ounce, holding most recent gains as safe-haven demand intensifies. The precious metal benefits from lower real yields and geopolitical tensions, with expectations of Fed policy easing providing additional support.

Oil: WTI crude recovered to $65.56 per barrel after touching five-week lows, supported by supply disruption concerns and Trump's comments on potential geopolitical de-escalation. However, demand concerns persist amid global growth uncertainties

Bitcoin declined 1.4% to $113,648 as risk-off sentiment dominated markets. The cryptocurrency faces headwinds from:

Ethereum showed greater weakness, falling 3.7% amid broader altcoin selloff. Despite this, institutional adoption continues with ETF inflows remaining positive, though at reduced levels compared to July's surge.

Market Structure: Crypto markets demonstrating heightened sensitivity to macroeconomic developments, with traditional safe-haven flows bypassing digital assets in favor of bonds and gold.

The Fed maintained rates at 4.25-4.50% for the fifth consecutive meeting, but two governors dissented in favor of cuts—the first dual dissent since 1993. Chair Powell's post-meeting comments suggested continued data dependency, with employment conditions now taking precedence over inflation concerns.

Policy Trajectory: Markets pricing 90%+ probability of September rate cut following employment data disappointment.

ECB held rates unchanged at 2.00% in July, maintaining a cautious stance amid trade uncertainty. Eurozone inflation stable at 2.0%, meeting the ECB's target, but economic growth remains subdued. The central bank emphasized data dependency and meeting-by-meeting approach.

BoE widely expected to cut rates to 4.00% on August 7, marking the third reduction in 2025. UK inflation at 3.6% remains well above the 2% target, but weakening growth and employment data support easing. Markets price 93.6% probability of a 25bp

BOJ maintaining ultra-accommodative policy but signalling potential future adjustments. USD/JPY volatility around 147.75 reflects uncertainty over timing of any policy normalization

1. Trade War Escalation: New US tariff announcements (10-41% on various countries) creating supply chain disruption risks and inflationary pressures. Retaliatory measures from affected nations could further destabilize global trade

2. Employment Market Deterioration: Significant downward revisions to US payroll data (-258,000 for May-June) raise questions about labor market resilience. Further weakness could accelerate Fed easing timeline.

3. Geopolitical Tensions: Multiple conflict zones (Ukraine-Russia, Middle East) continue creating supply chain vulnerabilities and energy market volatility. Safe-haven flows benefiting bonds and gold at equity expense.

Base Case (60% probability): Gradual economic slowdown with central bank policy support preventing recession. Markets experience heightened volatility but avoid major corrections.

Downside Scenario (25% probability): Trade war escalation combines with employment weakness to trigger significant economic slowdown. Risk assets face 15-20% corrections as recession fears intensify.

Upside Scenario (15% probability): Economic data stabilizes with trade tensions de-escalating. Markets rally on policy support and improved growth outlook.

August CPI data (13th) represents critical inflection point for Fed policy expectations and broader market direction. Position sizing should reflect heightened data sensitivity and potential for outsized moves around key releases.

Risk Disclaimer: This analysis reflects current market conditions as of August 6, 2025. Rapid changes in economic data, geopolitical developments, or central bank communications could materially alter the outlook. Diversification and appropriate risk management remain essential in the current environment. None of this is financial advice, Wizard Macro Research cannot be held responsible for any losses